چکیده انگلیسی

This paper studies optimal fiscal and monetary policy under imperfect competition in a stochastic, flexible-price, production economy without capital. It shows analytically that in this economy the nominal interest rate acts as an indirect tax on monopoly profits. Unless the social planner has access to a direct 100% tax on profits, he will always find it optimal to deviate from the Friedman rule by setting a positive and time-varying nominal interest rate. The dynamic properties of the Ramsey allocation are characterized numerically. As in the perfectly competitive case, the labor income tax is remarkably smooth, whereas inflation is highly volatile and serially uncorrelated. An exact numerical solution method to the Ramsey conditions is proposed

مقدمه انگلیسی

In the existing literature on optimal monetary policy two distinct branches have developed that deliver diametrically opposed policy recommendations concerning the long-run and cyclical behavior of prices and interest rates. One branch follows the theoretical framework laid out in Lucas and Stokey (1983). It studies the joint determination of optimal fiscal and monetary policy in flexible-price environments with perfect competition in product and factor markets. In this group of papers, the government’s problem consists in financing an exogenous stream of public spending by choosing the least disruptive combination of inflation and distortionary income taxes. The criterion under which policies are evaluated is the welfare of the representative private agent. A basic result of this literature is the optimality of the Friedman rule. A zero opportunity cost of money has been shown to be optimal under perfect-foresight in a variety of monetary models, including cash-in-advance, money-in-the-utility function, and shopping-time models.1
In a significant contribution to the literature, Chari et al. (1991) characterize optimal monetary and fiscal policy in stochastic environments. They prove that the Friedman rule is also optimal under uncertainty: the government finds it optimal to set the nominal interest rate at zero at all dates and all states of the world. In addition, Chari et al. show that income tax rates are remarkably stable over the business cycle, and that the inflation rate is highly volatile and serially uncorrelated. Under the Ramsey policy, the government uses unanticipated inflation as a lump-sum tax on financial wealth. The government is able to do this because public debt is assumed to be nominal and non-state-contingent. Thus, inflation plays the role of a shock absorber of unexpected adverse fiscal shocks.
On the other hand, a more recent literature focuses on characterizing optimal monetary policy in environments with nominal rigidities and imperfect competition.2 Besides its emphasis on the role of price rigidities and market power, this literature differs from the earlier one described above in two important ways. First, it assumes, either explicitly or implicitly, that the government has access to (endogenous) lump-sum taxes to finance its budget. An important implication of this assumption is that there is no need to use unanticipated inflation as a lump-sum tax; regular lump-sum taxes take up this role. Second, the government is assumed to be able to implement a production (or employment) subsidy so as to eliminate the distortion introduced by the presence of monopoly power in product and factor markets.
A key result of this literature is that the optimal monetary policy features an inflation rate that is zero or close to zero at all dates and all states.3 In addition, the nominal interest rate is not only different from zero, but also varies significantly over the business cycle. The reason why price stability turns out to be optimal in environments of the type described here is straightforward: the government keeps the price level constant in order to minimize (or completely eliminate) the costs introduced by inflation under nominal rigidities.
This paper is the first step of a larger research project that aims to incorporate in a unified framework the essential elements of the two approaches to optimal policy described above. Specifically, in this paper we build a model that shares three elements with the earlier literature: (a) The only source of regular taxation available to the government is distortionary income taxes. In particular, the fiscal authority cannot adjust lump-sum taxes endogenously in financing its outlays. (b) Prices are fully flexible. (c) The government cannot implement production subsidies to undo distortions created by the presence of imperfect competition. At the same time, our model shares with the more recent body of work on optimal monetary policy the assumption that product markets are not perfectly competitive. In particular, we assume that each firm in the economy is the monopolistic producer of a differentiated good. An assumption maintained throughout this paper that is common to all of the papers cited above (except for Lucas and Stokey, 1983) is that the government has the ability to fully commit to the implementation of announced fiscal and monetary policies.
In our imperfectly competitive economy, profits represent the income to a fixed “factor,” namely, monopoly rights. It is therefore optimal for the Ramsey planner to tax profits at a 100% rate. Realistically, however, governments cannot implement a complete confiscation of this type of income. The main finding of our paper is that under this restriction the Friedman rule ceases to be optimal. The Ramsey planner resorts to a positive nominal interest rate as an indirect way to tax profits. The nominal interest rate represents an indirect tax on profits because households must hold (non-interest-bearing) fiat money in order to convert income into consumption. Indeed, we find that the Ramsey allocation features an increasing relationship between the nominal interest rate and monopoly profits. Under the assumption of no profit taxation and for plausible calibrations of other structural parameters of the model economy, we find that as the profit share increases from 0% to 25%, the optimal average nominal interest rate increases continuously from 0% to 8% per year. In addition, the interest rate is time varying and its volatility is increasing in the degree of monopoly power.
The second central result of our study is that while the first moments of inflation, the nominal interest rate, and tax rates are sensitive to the degree of market power in the Ramsey allocation, the cyclical properties of these variables under imperfect competition are similar to those arising in perfectly competitive environments. In particular, it is optimal for the government to smooth tax rates and to make the inflation rate highly volatile. Thus, as in the case of perfect competition, the government uses variations in the price level as a state-contingent tax on financial wealth.
The remainder of the paper is organized in five sections. Section 2 describes the economic environment and defines a competitive equilibrium. Section 3 presents the primal form of the equilibrium and shows that it is equivalent to the definition of competitive equilibrium given in Section 2. Section 4 establishes the first central result of this paper. Namely, the fact that the Friedman rule is not optimal when monopoly profits cannot be fully confiscated. Section 5 analyzes the business-cycle properties of Ramsey allocations. It first presents a novel numerical method for solving the exact conditions of the Ramsey problem. It then describes the calibration of the model and presents the quantitative results. Section 6 presents some concluding remarks.

نتیجه گیری انگلیسی

In this paper we have characterized optimal fiscal and monetary policy in an economy with market power in product markets. The study was conducted within a standard stochastic, dynamic, monetary economy with production but no capital. The production technology is assumed to be subject to exogenous stochastic productivity shocks. The government finances an exogenous and stochastic stream of government purchases by issuing money, levying distortionary income taxes, and issuing bonds. Public debt takes the form of nominal, non-state-contingent government obligations.
In this economy, under perfect competition the Friedman rule is optimal. The central result of this paper is that once pure profits are introduced through imperfect competition, the Friedman rule ceases to be optimal. Indeed, the nominal interest rate increases with the profit share. In addition, in the presence of pure monopoly rents, the optimal nominal interest rate is time varying and its unconditional volatility increases with the magnitude of such rents.
A number of important properties of the Ramsey allocation under perfect competition are, however, robust to the introduction of market power. In particular, regardless of the degree of monopoly power the income tax rate displays very little volatility and is highly persistent. By contrast, the inflation rate is highly volatile and nearly serially uncorrelated. This shows that as in the case of perfect competition, under monopoly power the government uses the inflation rate as a state-contingent, lump-sum tax on total financial wealth. This lump-sum tax allows the government to refrain from changing distortionary taxes in response to adverse government purchases or productivity shocks.
In conducting the analysis of optimal fiscal and monetary policy we restricted attention to a specific motivation for the demand for money. Namely, one in which money reduces transaction costs associated with purchases of final goods. We conjecture, however, that our central result regarding the breakdown of the Friedman rule in the presence of imperfect competition holds in any monetary model where inflation acts as a tax on income or consumption. This is the case because as long as profit tax rates are bounded away from 100%, which is arguably the most realistic case, a benevolent government will have an incentive to use inflation as an indirect way to tax profits.
This paper can be extended in several directions. A natural one, which we persue in Schmitt-Grohé and Uribe (in press), is to introduce nominal rigidities in the form of sticky prices. One motivation for considering such an extension is that under price flexibility the Ramsey allocation calls for highly volatile inflation rates. This aspect of the optimal policy regime is at odds with conventional wisdom about the desirability of price stability. Sticky prices may contribute to bringing down the optimal degree of inflation volatility. In Schmitt-Grohé and Uribe (in press), we show that the incorporation of sticky prices into a model like the one analyzed in this paper introduces a significant modification in the primal form of the Ramsey problem. Specifically, under sticky prices and non-state-contingent nominal government debt, it is no longer the case that the implementability constraint takes the form of a single intertemporal restriction. Instead, it is replaced by a sequence of constraints like (24), one for each date and state of the world. This modification of the Ramsey problem is similar to the one that takes place in real models in which real public debt is restricted to be non-state-contingent like the one studied by Aiyagari et al. (2002).
More broadly, because imperfect competition is an essential element of modern general equilibrium formulations of sticky-price models, the present study can be viewed as an intermediate step in the quest for understanding the properties of optimal fiscal and monetary policy in models with sluggish nominal price adjustment.